Chi-X looks to crack Australia

DanBarnes

Chi-X Global, the start-up global exchange operator wholly owned by agency broker Instinet, made its long-awaited entry into the Australian market last month.

After three years of regulatory wrangles and delays, the alternative exchange soft launched with just six stocks and two exchange-traded funds on Oct. 31.

Chi-X Australia is the country's first foreign-owned stock exchange since stocks began trading in Australia 150 years ago and a direct competitor to the Australian Securities Exchange, known as the ASX, ending its monopoly on share trading. The new entrant is up and running and is offering trading in stocks of the S&P/ASX All Australian 200 index and 55 exchange-traded funds.

Its business model follows that of its sister markets, Chi-X Japan and Chi-X Canada, which have about 3% and 12% market share respectively. These exchanges make wafer-thin margins on high volumes of orders by beating other markets with low fees. Brokers expect Chi-X Australia to target a 5% to 10% market share in the next 12 months.

The launch was hard won. Chi-X Global spent more than two years lobbying local regulators to secure a licence to operate, which led the Australian authorities to overhaul the entire Australian regulatory structure.

Having won the battle to launch, however, Chi-X's hardships are just beginning. Trading volumes are low and brokers in Australia will have no regulatory obligation to trade anywhere but on the incumbent, ASX, for another 12 months under transitional rules, putting its model under pressure from the start. After this period, market participants will be obliged, under a "best execution" policy, to direct orders to the venue offering the best outcome.

Ben Read, head of electronic trading at Merrill Lynch Australia, said: "The market outlook remains mixed; while volumes in Asia over the last 12 months have held up compared with the US and Europe, global activity is slowing and we've definitely seen this in Australia over the past few months."

ASX ups its game

The ASX made things tougher by cutting its fees last year to 0.15 basis points in continuous trading and 0.28bps for auctions; Chi-X Australia has launched offering 0.06bps fees for passive and 0.12bps for aggressive execution.

Alex Frino, professor of finance at the University of Sydney, said that since the ASX cut its fees and invested in a faster matching engine, the competition differentiation the Chi-X Global proposition has brought to other markets is missing in Australia. He said: "I don't think Chi-X is going to get sufficient traction in Australia. I don't believe they have a compelling value proposition."

Tal Cohen, chief executive of Chi-X Global, declined to reveal any Chi-X Australia targets. He said: "We measure our own success from our ability to take a disproportionate measure of growth in the market and the creation of a healthy ecosystem in which both the high-touch and high-frequency trading firms can both benefit from interacting with the platform."

Read at Merrill Lynch is bullish about the platform's prospects. He said: "The most basic metric is market share or market turnover; an overall benchmark for success in year one would be around the 10% mark with a diverse group of participants connected and actively trading there. From what we've seen of the first week, the signs look encouraging."

Chi-X Global has been planning the launch of Chi-X Australia since 2008. The exchange operator underwent massive cost-cutting in the intervening period as its parent firm, Instinet, sought additional investors to support the market operator. The cuts, which aimed to rein in the company's US$50m-a-year burn rate and which claimed several senior scalps, worked. Bank of America Merrill Lynch, Goldman Sachs and Morgan Stanley, with high-frequency trading firms Getco and Quantlab, all took stakes earlier this year.

Cohen would not say whether these investors have agreed to provide liquidity. He said: "The way we view our investors is that we will leverage their experience, expertise and intellectual capital around Asia as much as their financial capital, which gives our brand and ownership model credibility."

According to Read, brokers participating in the launch have made up more than 80% of the year-to-date market turnover in Australia, so Chi-X Australia has the right backers. Although local regulator the Australian Securities and Investment Commission has granted a year-long grace period for brokers to integrate with the new market, he believes only the smaller niche brokers, who have less technological resources available to them, are opting out from executing on Chi-X straight away. He said: "It's not really an option, simply because the buyside are demanding best execution."

Rivals eye Australia

Even if Chi-X Australia is able to replicate the success it has had in Canada and increasingly in Japan, it is unlikely to have the market to itself for long. Bats Global Markets, which has an alternative platform in Europe and operates exchanges in the US, is an obvious potential rival.

Steve Grob, director of group strategy at trading systems supplier Fidessa, which recently opened an office in Australia, said: "Right now, the competition are happy to let Chi-X do the hard yards, breaking down regulatory burdens and making sure everyone gets smart routing technology in place. But you could guarantee that if Chi-X were to be a runaway success it would find it had some competitors."

But Cohen at Chi-X Global doubts the competition has the commitment necessary to launch in the market. He said: "Filing for an exchange application in Australia is not a trivial process."

He also pointed out that his firm still has flexibility around costs, thanks to the clearing infrastructure it developed with central counterparty LCH.Clearnet to support Chi-East, its pan-Asian dark pool. By providing an alternative to ASX Clear, the incumbent post-trade provider it currently uses, it could make Chi-X Australia even more cost-effective.

Cohen said: "It would be fairly straightforward as to which infrastructure we choose; if we can lower the overall cost of trading and thereby increase the overall activity in the market resulting in tighter spreads, deeper markets, then we'll pursue that."

Intraday Data provided by SIX Financial Information and subject to terms of use.
Historical and current end-of-day data provided by SIX Financial Information. Intraday data
delayed per exchange requirements. S&P/Dow Jones Indices (SM) from Dow Jones & Company, Inc.
All quotes are in local exchange time. Real time last sale data provided by NASDAQ. More
information on NASDAQ traded symbols and their current financial status. Intraday
data delayed 15 minutes for Nasdaq, and 20 minutes for other exchanges. S&P/Dow Jones Indices (SM)
from Dow Jones & Company, Inc. SEHK intraday data is provided by SIX Financial Information and is
at least 60-minutes delayed. All quotes are in local exchange time.